The unpredictable course of the global economy means that at any point in time investing in foreign companies may be better or worse than investing in American enterprises. Unfortunately, initiating transnational transactions either as a corporation or investor can be fraught with foreign peril. Depositary shares prevent many of these difficulties by allowing you to invest in foreign companies through shares issued inside the United States.

Problem

Issuing shares of stock is one way to raise capital for your company. The process entails complicated and time-consuming details as you cope with local regulations on taxes, finance and business. Investing in shares of local companies to increase your company’s capital also requires attention to government regulations. However, as complex as these processes may be on a national level, they do not compare to the difficulties of plunging into global markets, such as if you own a foreign company and want to sell shares in the United States, or if your U.S. company wants to invest in internationally based corporations. Foreign governments, financial methods, reporting requirements, laws, languages and currencies add extra layers of potential legal and monetary misunderstandings. You also will need to work with foreign banks, foreign stockbrokers and additional foreign transaction fees.

Definition

Depositary shares solve transnational financial complications by using local banks, regulations and currencies to issue local stocks of foreign companies. Depositary share programs exist in over 70 countries, according to the Bank of New York Mellon Corporation. In the U.S., they are known as American Depositary Shares. An American Depositary Receipt is a physical certificate showing ownership in American Depositary Shares. ADR and ADS are used interchangeably. These shares are traded on U.S. exchanges, such as the New York Stock Exchange or the American Stock Exchange, using U.S. dollars, and pay dividends in U.S. dollars. In other words, they are treated as local transactions with none of the complications of foreign investments.

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Benefits

For your company, using depositary receipts expand your market share by allowing investors from the entire world to put capital into your enterprise and benefit from it. It makes your product more visible to a global market, and offers additional options for raising capital and currency. If you have foreign employees, they can more easily invest in shares of your stock. As an investor, these shares let you broaden your portfolio internationally without worrying about costly currency conversions, poor information flow or unfamiliar market practices.

Risks

Depositary shares do not protect you from political instability. Foreign government collapses, wars, revolutions and nationalization of private companies may make your shares worthless. Currency fluctuations also remain an issue. Foreign companies still pay dividends in their own currency, though in the case of American Depositary Shares, these payments are converted to U.S. dollars before they reach you. If the dollar is up against that currency, your actual dollar amounts go down. If the dollar is down, your dollar amounts increase.

References

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About the Author

Aurelio Locsin has been writing professionally since 1982. He published his first book in 1996 and is a frequent contributor to many online publications, specializing in consumer, business and technical topics. Locsin holds a Bachelor of Arts in scientific and technical communications from the University of Washington.